Hedging with hedges: why institutions are turning to natural capital

"What on earth do wildflower meadows have to do with my investment portfolio?" It's a stern but not unreasonable question, and one that many investors have likely asked themselves when encountering environmental content while monitoring infrastructure investments.

Much in the same way that ESG strategies expanded in the mid-noughties, nature and biodiversity approaches have proliferated in recent years, appearing either as thematic investments or as performance indicators within broader mandates such as digital infrastructure or renewables.

But while the investment case for solar farms or battery storage has become more embedded in investor thinking, the monetary value of nature-related investments remains underexplained. While some investors enthusiastically consume nature-led content, it is entirely appropriate to view such investments through a purely monetary lens, given the capital at stake.

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So what are the tangible, economic benefits of natural capital or nature-related funds, and how are they being implemented?

Hedging with hedges

One of the more consistent themes in nature-led investing can be found in its deployment as a hedge, either as part of a diversified portfolio or in more specific instances such as carbon-price hedging.

This strategy involves juxtaposing equities that suffer when carbon prices rise with natural-capital investments that profit under the same conditions. For example, certain sectors such as traditional energy or transport may face increasing costs as governments tighten carbon pricing policies—such as carbon taxes or emissions trading schemes—which can squeeze margins and diminish returns. Through carbon-price hedging, the impact is neutralized as gains from carbon-removal assets compensate for losses in carbon-intensive equities.

This approach has been adopted by several funds, including NatWest Cushon's Sustainable Investment Strategy, which holds a 2% allocation to the Aviva Investors Carbon Removal Fund, investing in nature-based carbon sequestration like forestry and peatland restoration.

In Europe, PensionDanmark has implemented one of the more ambitious nature strategies in its sector, aiming to be entirely nature-positive by 2030 by embedding biodiversity measures into each stage of real estate and infrastructure projects.

In practice, this represents strategic alignment rather than altruism. Much of the strategy focuses on harmonizing the provider's ambitions with EU regulations. Biodiversity plans are becoming increasingly common for real estate and infrastructure projects in Denmark, with public authorities requiring evidence of nature considerations to support bids. Projects developed under higher biodiversity standards face fewer permitting hurdles and are therefore more likely to win development tenders.

By positioning themselves ahead of regulatory requirements, PensionDanmark gains competitive advantage, supports environmental outcomes, and streamlines processes by integrating these factors systematically.

This approach can be categorised as taking the path of least resistance, though providers like PensionDanmark deserve recognition for being early movers. In the UK, a similar race for alignment is emerging as fiduciary managers face increasing regulatory pressures. Structured around five ESG-oriented pillars of governance, risk management, investment integration, stewardship, and reporting, providers must now integrate these elements to remain compliant and avoid financial penalties.

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Carbon sequestration

The article began with a reference to wildflowers, so it's appropriate to conclude there. On solar farms, wildflower meadows are becoming frequent features—a positive development considering 97% of Britain's wildflower meadows have been lost since the 1930s, according to Natural England's 'State of Nature' report. Why does this matter? Wildflowers help sequester carbon from the atmosphere, providing climate benefits while their intricate root structures add ballast to soil, aiding flood mitigation. They also attract pollinators beneficial for agricultural use. More directly, soil quality influences land value and optionality for owners—better soil means greater options and higher market prices. Whether it's a saw-wort or a small teasel, wildflowers may well be gatekeepers of modern land value.

While still emerging in investment terminology, the investment case for nature is clearly strengthening, as is the appetite from institutional investors. Recent studies by Morgan Stanley and Longview Networks among others each highlight growing support for nature-positive outcomes among respondents.

Barriers 

However, the same reports identify several barriers to entry that must be addressed for nature to evolve as a true asset class, including a lack of investible products, data and disclosure gaps, regulatory uncertainty concerns, and resource limitations.

On resource limitations, investment companies have only recently completed ESG integration into reporting and compliance procedures. Adding the expertise required to fulfil obligations such as TNFD or TCFD demands significant time and capital investment.

Returning to the initial question, nature and investment markets are intrinsically linked. At its core, nature is fundamental to anything worth investing in. However, the industry must better explain the true value of natural capital to financially motivated audiences. In market downturns, environmental enthusiasm alone won't sustain investment—the case must rest on compelling financial fundamentals.